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Law of Variable Proportion - Production Analysis, Business Economics & Finance - CA CPT PDF Download

 U-shaped average cost curve is based on: 
  • a)
    Law of increasing cost 
  • b)
    Law of decreasing cost 
  • c)
    Law of constant returns to scale 
  • d)
    Law of variable proportions 
Correct answer is option 'D'. Can you explain this answer?

Ref: https://edurev.in/question/581472/U-shaped-average-cost-curve-is-based-ona-Law-of-increasing-costb-Law-of-decreasing-costc-Law-of-cons

The following article will guide you to know why cost curve is “U” shaped.

The addition of fixed and Variable Cost gives us total costs, which when divided by the output give us Average Costs in the short period.

The nature of short period Average Cost Curve is ‘U’ shaped. To begin with, the Average Costs are high at low levels of output because both the Average Fixed Costs and Average Variable Costs are more.


But, as the level of output increases, the Average Costs fall more sharply due to the combined effect of the declining average fixed and Average Variable Costs.

This results from the use of indivisible factors and the reaping of internal economies of labour, technical, managerial, marketing etc. The Average Cost will continue to fall till they reach the minimum point which is the optimum point level of output. Once the optimum level of output is reached, Average Costs starts rising as more are produced beyond this level.

The rise in Average Variable Cost is more than off set by the small fall in Average Fixed Costs and hence the Average Costs rises quickly. This is due to the change of economies into dis-economies. This gives the short-run as well as long-run Average Cost Curve of the firm IP shaped.

Law of Variable Proportion - Production Analysis, Business Economics & Finance - CA CPT
The nature ‘U’ shaped short-run Average Cost curve can be attributed to the law of variable proportions. This law tells that when the quantity of one variable factor is changed while keeping the quantities of other factors fixed, the total output increases with an increasing rate and then declines with more than proportionate.

Thus, the Average Costs of the firms continue to fall as output increases because it operates under the increasing returns due to various internal economies. Due to the operation of the law of increasing returns the firm is able to work with the machines to their optimum capacity and as a consequence the Average Cost is minimum.


If the firm tries to raise output after that point by increasing the quantities of variable factors the fixed factors like machines would be worked beyond their capacity. This would lead to diseconomies of production and diminishing returns. The Average Costs will start rising rapidly. Hence, due to the operation of Law of Variable proportions the short-run as well as long-run Average Cost Curve is TJ shaped’.

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FAQs on Law of Variable Proportion - Production Analysis, Business Economics & Finance - CA CPT

1. What is the Law of Variable Proportion in production analysis?
Ans. The Law of Variable Proportion, also known as the Law of Diminishing Returns, states that as one input variable is increased while keeping all other inputs constant, the marginal product of that variable will eventually decrease. In other words, there is a point where adding more of a particular input will result in diminishing returns.
2. How does the Law of Variable Proportion affect business economics?
Ans. The Law of Variable Proportion is an important concept in business economics as it helps businesses understand the optimal allocation of resources. By recognizing that adding more of a particular input will eventually lead to diminishing returns, businesses can determine the most efficient combination of inputs to maximize output and minimize costs.
3. What are the implications of the Law of Variable Proportion for production analysis?
Ans. The implications of the Law of Variable Proportion for production analysis are that businesses need to carefully consider the trade-off between inputs and outputs. They should identify the point of diminishing returns and avoid overinvesting in a particular input beyond that point. This analysis helps businesses make informed decisions about resource allocation and production planning.
4. How can the Law of Variable Proportion impact a company's profitability?
Ans. The Law of Variable Proportion can impact a company's profitability by influencing its production costs and output levels. If a company continues to add more of a specific input beyond the point of diminishing returns, it may experience higher costs without a proportional increase in output. This can lead to inefficiencies, decreased profitability, and reduced competitiveness in the market.
5. Can the Law of Variable Proportion be applied to all types of businesses?
Ans. Yes, the Law of Variable Proportion can be applied to all types of businesses, regardless of their industry or sector. This principle is based on the fundamental relationship between inputs and outputs in production. Whether it is manufacturing, services, or agriculture, businesses can analyze their production processes and apply the Law of Variable Proportion to optimize their resource allocation and improve their overall efficiency.
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